The Mortgage Bankers Association is calling a sweeping housing bill headed to President Bush’s desk this week "the most important housing-related legislation in more than a generation."

But some critics say that although the legislation provides a much needed backstop to keep Fannie Mae and Freddie Mac’s doors open, it will do little else to lessen the impact of the housing downturn.

In a 72-13 vote Saturday, the Senate concurred with previous House amendments to HR 3221 — in effect granting the Bush administration’s request to give the Treasury Department the temporary authority to buy an unlimited amount of the debt of government-chartered mortgage financiers Fannie and Freddie.

With mounting losses at Fannie and Freddie creating doubts about their ability to raise additional capital, the Bush administration decided to explicitly state that the government stands behind the for-profit, publicly traded companies. If the faith of financial markets in Fannie and Freddie’s ability to weather the housing downturn is restored, the government may not need to bail the companies out.

The Congressional Budget Office estimates there’s a greater than even chance that Fannie and Freddie have already anticipated the full extent of their losses, and that a bailout won’t be required. If the government does have to step in, assistance to Fannie and Freddie might cost $25 billion in the next two years, CBO said.

In addition to providing a capital backstop for Fannie and Freddie, the bill creates a new independent regulator to oversee the companies’ safety and soundness, authorizes a $300 billion expansion of Federal Housing Administration loan guarantee programs, and includes some provisions of a longstanding plan to modernize FHA operations (see bill summary).

"This is the most important piece of housing-related legislation in more than a generation," the Mortgage Bankers Association said in a statement. "The provisions in this bill will give lenders, servicers and borrowers another tool to help keep families in their homes. The bill will also help stabilize the housing, mortgage and capital markets."

The bill increases the upper limit for mortgages eligible for purchase or guarantee by Fannie and Freddie or for FHA insurance beginning Jan. 1, 2009, to 115 percent of the local median home price, up to $625,500. The current, temporary maximum of $729,750 is set to expire at the end of the year.

Fannie and Freddie will also be assessed new fees totaling more than $500 million a year, which will be used to fund affordable housing and cover the cost of a new FHA loan guarantee program aimed at helping troubled borrowers refinance into more affordable mortgages when lenders agree to write down part of the principal of a loan.

Although the Bush administration had previously threatened a veto over another provision of the bill — $3.92 billion in Community Development Block Grant Funds to help communities hardest hit by the downturn buy and rehabilitate foreclosed properties — the president is now expected to sign the bill.

"As the President has said, we are disappointed that the legislation includes extraneous provisions that can hinder our efforts to get through the housing correction quickly," Treasury Secretary Henry Paulson said in a statement following Saturday’s Senate vote.

But Paulson said the provisions of the bill pertaining to Fannie and Freddie were "of the utmost importance to our market and economic stability … orders of magnitude more important to turning the corner on the housing correction."

The administration had long sought an independent regulator of Fannie and Freddie and “FHA modernization” provisions like a $25 million appropriation for improved technology and processes provided by the bill. But the legislation delays for 12 months the administration’s plan to use “risk-based” pricing on FHA loan premiums. The bill also increases to 3.5 percent the minimum down payment on FHA-backed loans, and prohibits the use of seller-funded down payment assistance.

In a critique of the bill, MIT economics professor William Wheaton, of Torto Wheaton Research, agreed on the necessity of an explicit government promise to come to the aid of Fannie and Freddie.

What the housing markets needs are more sales, more transactions and a return of liquidity, Wheaton said. That, along with pared back housing starts, will reduce the inventory of unsold units and allow prices to stabilize and then recover.

"The mortgage market turmoil that would result from a Fannie and Freddie default would make mortgages more difficult to obtain, reduce sales further, expand the unsold inventory and drive prices ever more downward," Wheaton said.

Wheaton was less optimistic about the $300 billion expansion of FHA loan guarantee programs, saying that only home owners who are "deep underwater and who want desperately to stay in their current house" will agree to give up at least 50 percent in the future appreciation in their home, which is required for participation.

To qualify for the new "HOPE for Homeowners" refinance program, borrowers would also have to be spending more than 31 percent of their monthly incomes on their mortgage payment as of March 1, 2008. CBO has estimated that 400,000 borrowers might participate, but it remains to be seen how quickly FHA will be able to implement the new program.

The bill calls for FHA to begin refinancing loans on Oct. 1, and House Democrats Barney Frank and Maxine Waters are urging loan servicers to delay foreclosures until the new law takes effect.
Wheaton said another provision of the bill — an $8,000 tax credit for first-time homebuyers — seems at first glance "to be just the shot in the arm that sagging sales need." But Wheaton noted that because the tax credit must be repaid over 15 years, it is in effect little more than a no-interest loan.

"When looked at this way, the feature saves the buyer at most just a few hundred dollars a year — the annual value of the forgone interest," Wheaton said. "This seems like a very small amount to influence the decision of anxious new buyers waiting on the market’s sideline."

While increasing Fannie and Freddie’s loan limits allows more loans to meet the definition of "conforming" and access the assumed lower interest rates of such loan pools, it remains to be seen how financial markets will respond, Wheaton said.

Investors will be able to obtain data on average loan size, and not pay as much for conforming pools with higher average loan size, Wheaton theorized, resulting in slightly lower rates than today for larger loans, at the expense of slightly higher rates for smaller loans.


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